What Contractors Should Know About “No Tax on Overtime”

For contractors, accurately managing and reporting these hours is an operational necessity that requires balancing project demands, compliance and workforce well-being.

The One Big Beautiful Bill Act (OBBBA) introduces a first-of-its-kind federal income tax deduction for employees tied directly to qualified overtime pay. While the benefit flows to the employee, contractors will bear the responsibility for accurately tracking overtime — a process that may require meaningful payroll and system reporting process changes. 

For tax years 2025-2028, only non-exempt employees eligible for overtime under the Fair Labor Standards Act (“FLSA”) rules qualify and may deduct the premium portion of overtime pay reported on a Form W-2, Form 1099, or other specified statement. Under the FLSA, this refers to the “half” portion of the mandated “time-and-a-half” rate for hours beyond the 40-hour workweek. For example, if an employee earns $30 per hour, they are paid $45 in overtime. The extra $15 is the premium portion. 

Overtime reported solely under state law, local rules, company policy or Collective Bargaining Agreement (CBA) provisions does not meet the definition of qualifying overtime unless it overlaps with the FLSA requirements.

The maximum annual deduction for overtime pay is $12,500 for single filers and $25,000 for joint filers. It also phases out for taxpayers with modified adjusted gross income (MAGI) over $150,000 for single filers and $300,000 for joint filers. 

THE CBA COMPLICATION
Overtime paid in excess of FLSA requirements does not currently qualify for the deduction. This includes overtime triggered by union contracts, company policy, or state or local law. Notably, many Collective Bargaining Agreements (CBAs) go beyond those standards, paying higher rates for weekends, holidays or double time.

Because many CBAs include premiums such as time-and-a-half after the eight hours per day or double time on Sundays, contractors may need to break down overtime pay into FLSA-qualifying and non-qualifying components. Until IRS guidance is issued, contractors should assume only the FLSA-mandated premium qualifies.

For 2025, employers are not required to report qualified overtime compensation on Forms W-2, 1099-NEC and 1099-MISC. However, starting in tax year 2026, employers must separately itemize qualified overtime premiums on Forms W-2 and 1099. This represents a major change to historical payroll reporting, and payroll systems will need dedicated fields to capture only the premium portion.